Low Cost Index Funds (no load, low expense ratio) – Rule #1 on where to put your money

On May 4, 2012 by Andy Bandy Man

Do you feel like you are missing out on a HUGE opportunity whenever Engelbert Parker talks about how much money his stock portfolio is making? Well people like Engelbert love talking about their winning stocks, but notice how they never mention the money they lost?

Individual stocks are risky – you probably should not be playing with them unless you love it and can spend at LEAST 10 hours a week doing the proper research. But you also don’t want to leave your money sitting in a bank account, which currently pays approximately 0.2% interest ($10,000 sitting in your bank account for an entire year means… 20 bucks, minus taxes?).  So what should you do?

Rule #1: invest in low cost index funds (no-load, low expense ratio). Let’s go over some definitions first before explaining the rationale:

1) Mutual funds are a pool of investments managed by a professional money manager. Mutual funds reduce the risk of individual stocks, because the fund allows you to own little pieces of many different assets (stocks, bonds, etc.) For example, if you own shares in Vanguard’s “Growth and Income Fund” (VQNPX), you will own a small piece of 817 different stocks including marquee names like Apple and General Electric. Even if one, two, or ten go bankrupt, you won’t go broke.

Many mutual funds are “actively managed,” meaning that some dude at the mutual fund company is actively picking what goes inside the fund in order to “beat the market” and help you make more money. The problem with this is 1) the dude often does WORSE than the market, and 2) the dude has to get paid, meaning he is taking some of your money.

2) Index funds are a type of mutual fund that is ”passively managed,” meaning that they don’t have to hire a dude to pick stocks – they simply mimic a part of the market. For example, an S&P 500 index fund might just buy stock in all 500 companies that make up the S&P 500. Not only do index funds have lower costs, research shows that these index often do BETTER than actively managed funds.

3) “No load” funds: A fund that does not charge any upfront commission or cost.

4) Expense Ratio is a fee the mutual fund company takes from YOUR MONEY EVERY SINGLE YEAR! A 0.5% expense ratio versus a 2.0% expense ratio may not seem like a big difference, but could be the single biggest factor that determines how much money you end up with when you retire!  Index funds will nearly always have the lowest expense ratios.

 

AN EXAMPLE: EXPENSE RATIO OF 0.5% VERSUS 2.0% DELIVERS 57% MORE MONEY AFTER 30 YEARS

Here’s an example: assume you have $50,000 in your retirement fund now, don’t contribute any further money but make 8% returns each year. At the end of 30 years when you retire, the difference between investing in a fund that charges 0.5% versus in expenses versus 2.0% is a whopping $157,178! The lower expense fund gives you 57% more money!

Minimize your Expense Ratio, Maximize your MOOLAH!

 

The exact TYPE of fund you want to invest in (biotech stocks, large-cap stocks, bonds) is up to you. But Warren Buffet, Nobel-prize winner Bill Sharpe, Princeton’s Burt Malkiel, and many other experts agree with us - you should be parking your money in low cost index funds (no load, and low expense ratio). I use Vanguard because it has the cheapest rates in the industry – the average expense ratio is 0.21%.

One Response to “Low Cost Index Funds (no load, low expense ratio) – Rule #1 on where to put your money”

  • Mutual funds are an affordable way for an unfironmed investor to diversify their investments to minimize risk. They are good in the respect that it allows you to probably not lose all your money if one or two companies go bad.On the other hand, they often have many charges incurred along with them for upkeep or maintenance and things like that. And often, the funds that have the highest amount of charges because they have the most active management often don’t show any better performance than a fund with little charges/activity.In the end though, mutual funds often don’t even beat the market performance, and returns can be harder to figure out on a daily basis. If you want to be able to see how you’re doing easily and up to the minute, consider an index fund which contains weighted pieces of a number of large stocks (like a NASDAQ or DOW index fund).On the plus side though, you can get money mutual funds from which you can write checks or even make interact payments, so basically operate like a bank account with higher interest.

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